MU - Micron Technology's Buy Narrative Continues To Solidify

2023-04-09 02:22:22 ET

Summary

• Samsung announced a production cut, which is expected to create tailwinds for Micron.
• Production cuts will lead to inventory level normalization and potentially pull demand recovery forward.
• As Micron sees demand recovery, Samsung's supply cut could accelerate Micron's 2023 operating environment.

Introduction

The dynamic within the memory chip market is turning positive. On January 13, 2023 , I had a hold rating on Micron Technology ( MU ). At the time, although I recognized that industry analysts were expecting increased demand going into the second half of 2023, I pointed out huge inventories and Samsung Electronics Co's ( OTCPK:SSNLF ) refusal to cooperate with other memory chip makers to bring down the inventory levels through production output cuts. Then, on March 29th , I upgraded my rating on Micron to a buy citing that Micron had hinted at the trough for the memory chip cycle being nearly over by saying that the sequential growth would start again. Yet, until today, the market continued to expect Samsung to maintain its output hindering the recovery of the memory chip market; however, on April 7th, as Samsung announced a production cut, I believe my bullish thesis for Micron solidified. Not only is Micron expecting a trough in the memory chip cycle, but Samsung has created a tailwind for Micron and the entire industry. Therefore, Micron is a buy.

Samsung's Action and its Implication

Samsung announced that the company will cut memory chip output by a meaningful level. The company did not specify the magnitude of the production cut, but the change in the company's stance from refusing to cut production is expected to have many effects throughout the semiconductor market.

As likely implied by the title, the memory chip inventory situation will start to resolve faster as the supply of the products is limited while the demand is expected to come back. Regarding this matter, Micron, in their earnings call , has said that the "market recovery can accelerate if there is a year-to-year reduction in production." Thus, as Samsung is expected to limit production, the recovery is now expected to accelerate. Further, on the demand side, Samsung, in their earnings report, has said that the company is carefully expecting a " possible recovery on mobile demand in the 2nd half ," which is also in line with Micron's expectation of improving customer inventories. Therefore, I view Samsung's decision to cut production to be significant as it will likely accelerate the memory chip industry's recovery and create a strong tailwind for Micron throughout 2023.

Going into detail about why limiting supplies could accelerate the market recovery, I believe it is due to two reasons. The first is fairly obvious. Limiting the supply creates a favorable selling environment for the sellers, which are memory chip makers like Micron. As demand recovers and supply continues to be limited, inventory levels' normalization will likely happen faster. Second, I believe Samsung's announcement will stimulate demand by pulling future demand recovery forward. Imagine, if you are an OEM that uses memory chips to build consumer electronics or data centers, environments were favorable for you for the past year due to cheap memory chip pricing. As such, you have built up some inventory and did not see much need to reduce inventory or buy more memory chips. This was ongoing even after Micron and SK Hynix announced production cuts. However, today, Samsung, the final big player in the market announced a cut, which could mean, for the OEM, that prices could start to increase or normalize once more in the near future, especially as the market is starting to predict a demand recovery. In this situation, I believe it is highly likely for OEMs to start taking advantage of the current low prices as it may not last as all major suppliers of memory chips vowed to limit supplies in order to reduce market inventories. Therefore, due to Samsung's announcement of a production cut, a future demand recovery could be pulled forward.

Why is Samsung Suddenly Announcing a Production Cut?

Production cuts having a potentially positive effect on Micron and the memory chip industry may sound counterintuitive as production cuts would only come if the suppliers were expecting a gloomier future. However, this is likely not the case.

Going back to my Micron article that was written in January, I said that one of the reasons Samsung may be maintaining its stance against a production cut was due to the company's hopes of gaining additional market share in an already consolidated market. My view is that Samsung saw more gain in swiftly recovering the memory chip market than in attempting to push for a chicken game as the company saw its profits plunge by 96% year-over-year . Further, another reason could be that the company viewed that market share gain was not practical as the Korean government will not let SK Hynix go down due to another Korean company, Samsung, while the American government will likely protect Micron, especially in times when the US government is sensitive about the landscape of the semiconductor industry. Thus, I strongly believe that the production cut, in this case, does not necessarily correlate to a potentially tougher future as inventory normalizes and demand starts to recover.

Risk to Thesis

Despite Samsung's cut likely having a positive tailwind for Micron, the bullish narrative is still heavily reliant on the demand recovery. A supply cut will not have a profound positive effect if it is not followed by a demand recovery. As such, the current fragile macroeconomic condition is one of the biggest risks to my bullish thesis. Persistent inflation and slowing global economic growth may hinder the recovery of the memory chip market and ultimately increase headwinds for Micron going forward.

Summary

Building off of my previous Micron articles, I believe the bullish case for Micron is solidifying. All major memory chip players have announced a production cut, which is expected to normalize inventory levels and potentially pull future demand recovery forward. Micron's expectation of returning to sequential growth, therefore, could be aided by a tailwind created in the industry. Therefore, amidst a demand recovery expectation and supply cuts, I believe Micron is a buy.

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